International Cost of Capital - NYU Stern

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International Cost of Capital - NYU Stern Powered By Docstoc
					         Emerging Financial Markets
                  9: International Cost of Capital
                                      Prof. J.P. Mei




Many material here is adopted from
Erb, Harvey, Viscanta’s presentation at
Ibbotson Associates’ Cost of Capital
Conference
   International Cost of Capital Models
• Identical Cost of Capital (for all locations)
• World CAPM or Multifactor Model (Sharpe-
  Ross)
• Segmented/Integrated (Bekaert-Harvey)
• Credit Rating (Erb-Harvey-Viskanta)
• Goldman-integrated sovereign yield spread
  model
• Goldman-segmented
• Goldman-EHV hybrid
• CSFB volatility ratio model
                                                       Summary Statistics-April 1991 - March 1996

                                                                                            Nomality   First           Beta         Beta      Beta
                             Arithemetic Geometric Standard                                   Test     Order           MSCI        MSCI      IFCG
Country         Start Date     Return     Return deviation Skewness            Kurtosis      P-value Autocorrel        World      AC World Composite
Argentina        Apr-91        35.5%       25.6%    56.7%     3.09              16.92          0.00      0.06            1.53        1.69      0.91
Brazil           Apr-91        44.3%       37.1%    52.2%     0.89               1.51          0.00      0.09            1.19        1.43      1.38
Chile            Apr-91        24.7%       23.6%    26.6%     0.35              -0.43          0.04      0.23            0.09        0.20      0.64
Colombia         Apr-91        40.5%       39.0%    40.1%     1.33               2.02          0.00      0.54           -0.05       -0.01      0.25
Greece           Apr-91         -2.7%      -5.5%    24.1%    -0.34               0.06          0.32      0.16            0.52        0.54      0.28
India            Apr-91        12.6%        6.3%    36.8%     0.67               1.47          0.20      0.25           -0.60       -0.49      0.69
Indonesia        Apr-91          9.5%       5.5%    29.2%     0.15               0.09          0.83      0.18            0.58        0.72      1.04
Jordan           Apr-91        10.0%        9.4%    14.3%     0.34              -0.80          0.00      0.07            0.11        0.13      0.11
Malaysia         Apr-91        20.4%       19.1%    23.9%    -0.06               1.03          0.26     -0.16            0.57        0.67      0.87
Mexico           Apr-91        15.7%        8.5%    37.5%    -1.01               2.04          0.09      0.33            0.83        1.08      1.40
Nigeria          Apr-91        37.5%       12.7%    69.5%     1.19              11.92          0.00     -0.04            1.15        1.14     -0.05
Pakistan         Apr-91        22.4%       18.1%    35.3%     1.03               1.92          0.01      0.30            0.06        0.15      0.57
Philippines      Apr-91        24.1%       22.4%    28.7%     1.37               4.47          0.18      0.02            0.54        0.69      1.10
Portugal         Apr-91          8.3%       6.6%    19.6%     0.41               1.55          0.29      0.01            0.98        1.01      0.25
S. Korea         Apr-91          7.8%       4.7%    26.0%     1.07               1.75          0.03      0.04            0.41        0.51      0.68
Taiwan           Apr-91          7.3%       1.4%    37.1%     2.24               7.65          0.00      0.08            0.69        0.88      1.42
Thailand         Apr-91        20.1%       17.2%    30.0%     1.08               1.85          0.03      0.03            0.20        0.35      1.14
Turkey           Apr-91        13.6%       -3.9%    61.2%     0.64               0.42          0.04      0.08           -0.12       -0.01      0.87
Venezuela        Apr-91         -7.0%     -16.8%    45.8%    -0.45               1.91          0.24     -0.25            0.45        0.54      0.57
Zimbabwe         Apr-91          4.8%      -1.1%    34.9%     0.38               0.87          0.37      0.32            0.84        0.90      0.55
MSCI World       Apr-91        11.2%       11.1%    10.7%    -0.32              -0.34          0.08     -0.25            1.00        1.01      0.20
MSCI AC W’d      Apr-91        11.0%       11.0%    10.5%    -0.23              -0.39          0.14     -0.22            0.98        1.00      0.25
IFCG Comp.       Apr-91        11.4%       10.6%    16.4%     0.93               3.47          0.08      0.40            0.47        0.62      1.00
*Composite: IFC Global Composite; AC World: MSCI All Country Index. Source: IFC Global Indices, MSCI Indices. Monthly returns in US Dollars.
Source: Erb, Harvey and Viskanta
     The International Cost of Capital
Identical Cost of Capital
• Ignores the fact that shareholders
  require different expected returns for
  different risks
• Destroys value
• Avoid
     The International Cost of Capital
Segmented/Integrated CAPM
•Bekaert and Harvey (1995)
•If market integrated, world CAPM holds
•If market segmented, local CAPM holds
•If going through the process of integration,
a combination of two holds
      The International Cost of Capital
Segmented/Integrated CAPM
•   Expected return a function of covariance with world
    and covariance with local index
•   Weights determined by variables that proxy for
    degree of integration, like size of trade sector and
    equity market capitalization to GDP
•   Weights are dynamic, as are the risk loadings and
    the risk premiums
•   Downside:hard to implement; only appropriate for
    countries with equity markets
       The International Cost of Capital
Credit Rating Model
• Erb, Harvey and Viskanta (1995)
• http://www.duke.edu/~charvey/applets/iccrc.html

• Credit rating a good ex ante measure of risk
• Impressive fit to data
• Intuitive
• Can be used in 136 countries, that is, in
  countries without equity markets
• Fits developed and emerging markets
    The International Cost of Capital
Goldman-Integrated (EHV Hybrid)
• Estimate market beta on the S&P 500
• Beta times historical US premium
• Add sovereign yield spread

             R  rf  SYS   m
• Goldman model only useful if you have
  sovereign yield spread
• Use EHV model to fit ratings on yield spread
         The International Cost of Capital
CSFB
E[r]=SY+ß{E[r-RF] x A} x K
• SY= Brady bond yield (or use fitted from EHV)
•   ß= beta of a stock against a local index
• A= the coefficient of variation (CV) in the local market
  divided by the CV of the US market, where CV=
  standard deviation/mean
• K is an adjustment factor to allow for correlation between
  risk free and risk premium (set=0.6)

				
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posted:1/24/2013
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